Forex & commodities on December 19, 2017: thoughts & outlook


Here are my discretionary thoughts on forex and commodities (oil, gold, silver, etc). I only trade the S&P 500.
Go to the homepage for my latest thoughts on forex and commodities.

Thoughts

  1. A significantly greater supply of Treasury bonds in 2018.
  2. China’s plan to slowly destroy the USD: slowly coming into fruition.
  3. Correlation between USD and interest rates: what this means for the USD.
  4. GDX is the best short if USD goes up and precious metals go down.

4 pm: a significantly higher supply of Treasury bonds in 2018.
I stated this morning that Treasury yields have a > 50% chance of going higher in 2018 (the 10 year yield has been flat in 2017 despite rate hikes). We now have a fundamental reason for this hypothesis.
According to JPMorgan’s estimates, government debt sales will almost double in 2018 vs 2017. This is a huge increase in the supply of bonds. This is a medium-long term bullish factor for interest rates.

4 pm: China’s plan to slowly destroy the USD.
Please read China’s plan to slowly destroy the USD if you haven’t already.
The jist of the article is this.

China will launch the PetroYuan (backed by the gold standard) to directly compete with the PetroDollar (and thus shrink global demand for the USD). In order for this plan to work, China needs Saudi Arabia to accept oil payments for Yuan. Saudi Arabia hasn’t agreed to China’s terms yet, but is moving in that direction.

China’s plan is slowly coming into fruition via 2 news:
News #1: China might be just days away from launching its Yuan-denominated oil futures on the Shanghai exchange. Many Chinese traders think that this will be launched before 2017 is over.
News #2: Saudi Arabia announced today that its economy shrank for the first time in 8 years thanks to low oil prices. This is despite the fact that Saudi Arabia’s government has spent a record sum to boost GDP in 2017. Time is running out for the Saudis before they have to agree to China’s terms. They are desperate for cash.
And it’s not just Saudi Arabia that’s desperate for cash. My SO’s family is from the Middle East. She said that governments there are delaying payments to contractors just to conserve cash. That’s how desperate oil producing states in the Middle East have become.
*Delaying payments is normally a violation of contract, but when you’re dealing with an autocracy, you have no choice.
 
5 am: Correlation between USD and interest rates.
There is a strong correlation between the U.S. Dollar Index and the 30 year Treasury yield.


There’s a semi-strong correlation between the USD Index and the 10 year Treasury yield.

I noted a discrepancy in Does a flattening yield curve predict a bear market in stocks.

  1. The current yield curve is flattening too quickly. At this pace, the yield curve will be inverted in 6 months. A bear market typically begins 1 year after the yield curve is inverted.
  2. Based on our Medium-Long Term Model, this bull market in stocks has at least 1-2 years left. 3 years is the most likely target based on the current data (i.e. 2020).

How do we resolve this discrepancy? Simple. The yield curve needs to steepen a little bit before it continues to flatten. This means that the yield curve will not be inverted in 6 months.
This is a bond market outlook that David Tepper and Jeff Gundlach support.
If this is the case, then perhaps the 10 year or 30 year Treasury yield will rise (causing the yield curve to steepen). Based on the USD-yield correlation, the USD will also rise over the next few months.
5 am: GDX is the best short if USD goes up and gold/silver go down.
I stated that there is an inverse correlation between USD and gold/silver.
If the USD goes up in 2018, then gold/silver will tank. GDX will be the best short because:

  1. It has fallen the least compared to gold and silver. There’s a lot more room for it to fall.
  2. There are a lot of stop loss orders at $21, which has been GDX’s big support in 2017. If GDX breaks below $21, the next support is far below at $18. If GDX breaks below $18, then all hell will break loose.

Here’s GDX. GDX is currently at the 50% retracement line.

Here’s gold. Gold is only at its 38.2% retracement. But keep in mind that GDX is much more volatile than gold.

Silver has fallen the most and is therefore the worst short candidate. It has retraced more than 61.8%.

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